Winning at stock picking over the long haul is very, very difficult business, but not impossible.
The first thing is, what does winning mean? As a long running theme here, one way to define winning is that the investor has enough money when he needs it, like at retirement. One way to get there of course is to save a lot and be in the ballpark performance-wise. With this in mind I wanted to spell out how to win in this context without being some sort stock picking genius. Below is a stock portfolio that someone who regularly read Smart Money and Money magazines regularly might have assembled in early 1993 (so 20 years ago).
Financials Fannie Mae and Bank of America
Healthcare Merck
Tech Microsoft and Intel
Industrials General Electric
Energy Exxon
Telecom Southwestern Bell
Staples Procter & Gamble
Discretionary McDonalds
These were all very popular stocks 20 years ago and the 1990s was a heyday for the equity market. A couple of notes on the list include that I believe BAC's chart would actually be Nationsbank as when they merged it was the BAC name that survived but not the shares. AT&T is actually Southwestern Bell because the original T is no more. Picking a mainstream financial stock going back so far is difficult because similar to BAC JPM has a lot of Bank One, Chemical and if I am remembering correctly I think Chemical bought Manufacturer's Hanover. Maybe Wells Fargo would have been a better choice.
Putting $10,000 equally into each of the ten names until early 1999 would have worked out as follows;
Fannie Mae $42,089
Bank of America $30,051
Merck $33,843
Microsoft $161,845
Intel $107,089
GE $55,853
Exxon $28,760
AT&T $38,058
Procter $40,877
McDonalds $33,792
This would total $572,257 versus $332,519 putting the entire original $100,000 into Vanguard S&P 500 (VFINX). Having made no trades, by the summer of 2002 the values would be as follows;
Fannie Mae $45,831
Bank of America $34,029
Merck $30,279
Microsoft $88,746
Intel $57,496
GE $54,077
Exxon $32,586
AT&T $21,134
Procter $42,919
McDonalds $21,634
The total in summer 2002 would have dropped to $428,731 and the all-VFINX option would have been at $247,508. At the 2009 lows this is what it would have looked like;
Fannie Mae $280
Bank of America $5219
Merck $17,525
Microsoft $8787
Intel $9810
GE $15,720
Exxon $65,923
AT&T $22.837
Procter $48,743
McDonalds $53,346
The total at the March 2009 low would have been $248,190 versus the all VFINX option at $207,650. Finally, having held on to all ten through Friday;
Fannie Mae $219 lag
Bank of America $17,741 lag
Merck $36,574 lag
Microsoft $128,179
Intel $123,133
GE $56,425
Exxon $103,722
AT&T $47,014 lag
Procter $87,528
McDonalds $109,351
Today the portfolio would be worth $709,886 versus $513,903 for all-VFINX.
Of the ten stocks, four lagged but the long term total result obviously outpeformed. Keep in mind also that some of the names still greatly outperformed even after having done nothing for the last ten or more years. I did not change the list during this number crunching so I did not know what the outcome would be but being right a little more often than being wrong would have delivered a very good result despite some periods of extreme lagging for the ten.
The point I intended to make was about rebalancing. I am a big believer in selling partial positions for any holdings that go up much faster than the market. While I would be clear that 10% in ten stocks is not how I would ever construct a portfolio we can stick with the example. At the 1999 check point MSFT had grown to 28% of the portfolio and INTC 18%. In targeting 10% weightings here I don't know if at 18% I would have rebalanced INTC down (never started with 10% in one stock before) but I do think I've laid the groundwork to say with credibility that MSFT would never get to 28% after having started at 10%.
If money had come out of MSFT and gone into Fannie Mae then interestingly enough the rebalancing argument weakens if we stick with the same ten stock universe.
Due to Super Bowl time constraints I will move this along to a conclusion. If you were to pick the same nine stocks for the next 20 years, omitting Fannie Mae, I imagine some would beat the market, some would lag and maybe one of the nine would be effectively out of business. The result might be ahead of the market or maybe not but combined with an adequate savings rate I bet the investor holding the group would at least be in decent shape.
Please notice that I don't have any ownership disclosures to make, that means I don't own any of these stocks personally or professionally and right here right now there is no visibility to buy any of those names (unless they are in an ETF we own). I got the above data from Morningstar so I believe it does include dividends.
Picking ten domestic megacaps to buy will probably never be the best result but it can still be a very effective result and is not insanely difficult. If that is one starting point then from there are unlimited different directions to go. A very simple way to go might be ten more domestic megacaps (total of 20) for a little better diversification. A more complicated type of direction to go would be riskier companies like single-drug biotechs, stocks that capture a fad like Wheelies or tech stocks with products targeting a narrow application.
To the original reader comment, this makes "winning" complicated. A basic, simple portfolio with an adequate savings rate can get it done without "beating the market" and by "it" I mean having enough when you need it.
One last tie in to past blog themes. I've mentioned before that it would be great to be so correct with how a portfolio is put together that it never needs to be changed or rebalanced but of course this is not practical. The above ten stocks were chosen with just two criteria. One is that they were megacap household names 20 years ago and that I could chart them for the entire 20 years. So that was as random as you want to believe (I think its was a reasonably random group).
If you can accept that this would not have been impossible to create 20 years ago and you really can define winning as having enough when you need it (not everyone can) then beating the market takes a back seat and the task does indeed become easier and simpler for someone wishing to be their own portfolio manager.
This was a long post so I had to take a pretty healthy dose of deer antler spray to get through.
21 comments:
You're kidding, right? Nothing like Monday morning quarterbacks.
at least you're not missing the point, oh wait yes you are
Everyone's a genious investing with a rear view mirror.
Jesus, this isn't that complicated. Had I not mentioned any names and said if you pick ten household megacap stocks and held them or 20 years, some would outperform some would lag and one or two would be out of business and the net result could be enough when combined with an adequate savings rate irrespective of beating or lagging the market.
The ten were chosen randomly with no idea what the result would be.
Good food for thought Roger.
By the way, I created a 20 stock portfolio just over one year ago and already one is out of business.
The other 19 are doing well however so I will be watching it carefully along the lines you are thinking.
Roger, are you aware of anyone doing the same exercise, except for using the 10 S&P 500 sector ETFs instead of individual stocks, going back only as far as all 10 ETFs were available, and rebalancing once per year? Intuitively and while requiring a little more attention than simply buy and hold, this should "beat" VFINX. Thanks.
in the last 30 years there have been three sectors that became far too big; energy, tech and financials.
So that rebalance clearly helped. I don't know how meaningful the idea would be without sector distortions.
This post voted as silliest of the year.
10:17. I vote your comment silliest comment of the year; but, have heart, it is still early and someone is bound to make a sillier comment between now and 31 Dec.
This is a pretty interesting comparison, Roger. I've done similar exercises, but not over as long a period of time and, more importantly, FOR DIFFERENT STARTING YEARS. The years I picked included stocks that I thought I understood, like Worldcom and Enron that didn't end pretty. Heh.
Which of course is the point of the whole exercise.
Still, though, as an indexer I do devote a little bit of thought to exercises like this each year, and consider whether or not to put a small percentage of my portfolio into an individual stock or mutual fund that I think may outperform over the long run. The results in investments in things like Dodge and Cox International, CGM Focus (remember them?) and Fairholme Fund.
If you don't ask questions, you're not gonna learn.
Anon 9:49am: seems to me there's an ETF, maybe from Powershares, that does that. Not sure. I track a portfolio like that using iShares global sector ETFs, but their history doesn't go back that far. How far back to SPDR sector ETFs go? I might work on that a sample portfolio. I keep the performance spreadsheet available online, but my webserver is down right now. I'll post an updated link here after Morningstar updates all their 2012 performance numbers.
Aon 9:49: EQL. No idea if it's liquid or what expenses are. Looks like it leaves out telecom, which isn't uncomomon - those stocks are probably in technology.
Re-balancing sectors in a portfolio is critical I think, but using individual stocks as sector proxies is probably not an exercise most savers cum investors would benefit from.
I started out in the mid-1980's investing in companies with DRiP's. The only model I had was whether the company had grown dividends over time (couldn't understand half of what was in an annual report back in those days) and whether they had an investor relations dept that sold directly w/ no commission to an investor even for initial shares (brokers were too bloody expensive back then.
I haven't added to any for 20 years and there are only three accounts left but there's enough in them that I'll probably be willing them to charities when I kick the bucket; the capital gains are huge and my living/play expenses are otherwise fully covered.
All of which is to say that I think I agree with Barry Ritholtz WRT individual equities at least for most investors: Let 'em run untouched as long as they're making gains (I keep mine in a separate portfolio so they don't figure into my allocation decisions).
Long time reader. I am puzzled by your message today.
using individual stocks doesn't have to be as difficult as the reader comment implied, it depends on your objective and willingness/ability to save money.
Roger,
Implicit in what you seem to be saying is that it is easy to beat the SP500. Is that correct? Why else would one select individual stocks instead of holding the index unless it is not difficult to exceed the SP500 returns. I think the expense ratio on SP500 funds is .07 or so...pretty close to free.
Why do experts demonstrate how difficult it is to beat the SP500?
Seems to me many posters are missing Roger's point.
I did this before on this site with 5 stocks, here's another list off the top of my head:
AAPL
JPM
GE
FB
AMZN
WMT
GOOG
HD
PFE
BRK-A
XOM
IBM
Take the best in class DJ stocks, eliminate the duplicates, and add a few up and coming names. Since it's equal weighted I bet it outperforms the DJ. See me in 20 years.
Rich
6:26
I am not saying it is easy to beat the SPX. For the umpteenth time I picked the stocks randomly and crunched the numbers not having any idea how they would turn out. I said several times between the post and the comment that it does not matter how a do-it-yourselfer does versus the index.
Again for the umpteenth time, a grouping of large cap stocks will probably get it done for someone when combined with an adequate savings rate regardless of whether they beat the market or not. The context of it is having enough money when you need it.
All of this is in the post and repeated in previous comments.
Rich gets it, thank you!
I may not have conveyed this well (it happens) but you could read the post thoroughly and maybe take a look at the comments too.
Ok. At 5:00 you say picking stocks doesn't have to be difficult. Then at 6:57 you say that you're not saying it is easy to beat the SP500...which means it is hard?
So what are you saying? Just pick some big name stocks and go on about your business?
I agree with 4:53. You are confusing the heck out of me for sure.
what is the objective I am talking about? Hint: it is not beating the market.
Not difficult in relation having a portfolio that doesn't go to zero but is generally in the ballpark. Had the ten stocks collectively been up 400% in a 500% world, that could work in relation to the objective.
This post has nothing to do with setting out to beat the market.
Maybe expert could comment on this new ideas. In very popular Boglehead website they say do not pick stock.
Huang Zhang
Roger,
I agree with some of the comments regarding how unclear you are today.
At first you seemed to imply that "winning" is exceeding SP500 returns. Then you say you could pick 20 megacap stocks and hold them and not worry about beating or lagging the market. The message seemed to be just save and stay invested. Then the comment about being up 400% in a 500% world would get the job done. I take "500% world" as being the SP500.
If you could simply invest in the SP500, you would never beat it, but you certainly wouldn't fall short either.
How on earth can you advocate investing in individual stocks when one of the possible outcomes is worse than a simple low cost index? You just are not making much sense today.
Your team lose? ha ha
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